Budgeting Strategy Changes When You Retire!
Yes, I'm the nerd of the family. Perhaps that's why I was able to retire at the end of 2017 after working 25 years as a civilian for the Army. We had learned to plug the holes in our budget in 2005 after going through Dave Ramsey's Financial Peace University, so we started to really budget well. And the debt got paid down quickly after that...
When I say our debt was paid down too quickly, I mean we were naive enough to follow the Dave Ramsey debt reduction plan without critical thinking. We aggressively paid off $65k of our $130k mortgage early, putting every extra cent into reducing the mortgage, our only remaining debt. We even wasted the entire summer of 2008 rehabbing a $36k house in our hometown of Eastpointe just outside Detroit, selling it at $76k for an $8k profit. Yeah, we obviously put too much love into that house. And then we idiotically put that $8k into paying down the mortgage, because that was the next step of the Dave Ramsey plan.
Thankfully we had enough foresight to buy our new house in early 2010 before we sold our old house at short sale. Why? Because at that time, a short sale went on your credit report as if you had been foreclosed on. In 2010, banks and credit reporting agencies didn't have a separate credit reporting code for short sale. If we had gone through the short sale first, we wouldn't have been able to buy another house for 7 years. So we bought our new house in early 2010, but once the short sale showed up on our credit report (as a foreclosure), we found ourselves unable to refinance when the interest rates dropped to ridiculous new lows. So I made contact with a real estate broker in Florida who had a passion for this injustice. She was able to connect me to an agency that for $250 or so would force the credit agencies to fix the foreclosure code. It worked, and in 2013 I was finally able to refinance my new house. And 7 years after the short sale, the short sale automatically dropped off my credit report altogether.
It was the mortgage banks who created the housing crisis in the first place. Had they not tanked the housing market, we would have easily been able to pay back every cent of the remaining $65k balance. Yes, many homeowners acted in bad faith at that time by purposely maxxing out their home equity lines then walking from their homes.
But we were the ideal lendees. We not only paid our mortgage faithfully, but prepaid half of it off 10 years into a 30 year mortgage. It was the banks that were responsible for the fact that our house $130k house was worth less than $65k. Their expiring ARMs had left too many homeowners unable to refinance their homes, leading to home abandonment, leading to prices dropping further. It was a vicious cycle caused by Bank of America, and now Bank of America had the gall to ding our credit score by reporting our home's short sale as a foreclosure to the credit agencies.
This is exactly what Bank of America did to us. Their actions took our hard-earned $65k of prepaid equity in our house and flushed it down the toilet.
Sorry for the rant. It's still an injustice that I feel. We had spent hundreds of hours and thousands of dollars renovating that little house. All wasted. I want those years of my life back.
But we moved on, and more than made up that lost $65k by buying a foreclosed former builder's home for half price. A mansion, really. It had 4 floors (3 above-ground plus a full basement) totaling 6400 sq ft of livable space, 3 gigantic bedrooms, 3 full baths plus 2 half baths (we added another 3/4 bath in the basement), and no neighbors on one side or behind. It needed some rehab, but we were now experienced in that.
In late 2017, I was a decade younger than the minimum retirement age, but had my 25 years in. If I retired early, the federal government would pay me 1/4 of my salary as an annuity to not work. In my mind this meant that I was now only earning 3/4 of my current salary (the difference) to continue the daily grind. Talk about loss of motivation. Oh, and I was an engineer in a developmental position as an "acting" low-level project manager. Translation: Perform at a much higher level with lots more responsibility on your shoulders without a raise. I had accepted the position because I was super bored and needed an intellectual challenge. And I honestly liked the variety and unpredictability that the position brought every day. But it was stressful.
* (During winters in the Detroit area, one has to imagine the sun setting. The constant cloud cover and barren trees and dead grass all conspire to trap you in a living black and white movie. There are roughly 18.68233 days where glimpses of the sun may be seen during the 8 month winter that lasts October through Memorial Day.)
So I would get 1/4 of my salary as an annuity. I could double that by rolling over my TSP balance to an IRA and taking early distributions as a Substantially Equal Payment Plan (SEPP).
I calculated in the compounding yearly inflation of expenses. I just needed to make it to age 57. At that time, I would receive an annuity supplement which would tide me over until I could collect social security, which is the 3rd component of a federal employee's retirement plan.** I just needed an extra grand a month long term. If we downsized and sold the former builder's mansion, that equity would give us the extra "emergency fund" we needed to make it work. Instead of using the money to buy a smaller house outright, we decided we would invest the money to make it grow. This meant we would rent a house for the foreseeable future. I did the math. It would take a decade before the costs of renting a home would exceed the opportunity costs of buying a home outright with cash. We could make so much more investing that money, and plus we would have the source for that extra $10 to $15k we needed each year to make our plan work.
** (Translation: Social Security is never going away, folks. It has been promised as a component of the retirement package of every federal employee hired after 1987. All 3.4 million of us.)
I was ready. All I needed was for the Army agency I worked for to offer VERA. They did. I pounced like a cat on a mouse. And I never looked back.
Too quickly.Click here to skip the background story and get right to how our budgeting strategy changed in retirement.
When I say our debt was paid down too quickly, I mean we were naive enough to follow the Dave Ramsey debt reduction plan without critical thinking. We aggressively paid off $65k of our $130k mortgage early, putting every extra cent into reducing the mortgage, our only remaining debt. We even wasted the entire summer of 2008 rehabbing a $36k house in our hometown of Eastpointe just outside Detroit, selling it at $76k for an $8k profit. Yeah, we obviously put too much love into that house. And then we idiotically put that $8k into paying down the mortgage, because that was the next step of the Dave Ramsey plan.
You know what happened next in the Detroit Metro area
Houses in Detroit started selling for $4k. Our neighbors started walking from their houses, leaving the banks holding the bag with maxxed out mortgages and home equity loans sometimes totaling $150k. This in turn caused the neighborhood to change. Surrounded by abandoned houses falling into ruin, and suddenly seeing gangs of middle schoolers on bikes (yeah, like 30 of them), we didn't feel this was a good place to start a family. So we decided to move. Our $130k house sold for $47k in 2010. We still owed $65k. Short sale.Thankfully we had enough foresight to buy our new house in early 2010 before we sold our old house at short sale. Why? Because at that time, a short sale went on your credit report as if you had been foreclosed on. In 2010, banks and credit reporting agencies didn't have a separate credit reporting code for short sale. If we had gone through the short sale first, we wouldn't have been able to buy another house for 7 years. So we bought our new house in early 2010, but once the short sale showed up on our credit report (as a foreclosure), we found ourselves unable to refinance when the interest rates dropped to ridiculous new lows. So I made contact with a real estate broker in Florida who had a passion for this injustice. She was able to connect me to an agency that for $250 or so would force the credit agencies to fix the foreclosure code. It worked, and in 2013 I was finally able to refinance my new house. And 7 years after the short sale, the short sale automatically dropped off my credit report altogether.
I find it ironic that we were penalized for the short sale
Some people will prudely claim, "well, you borrowed the money and promised to pay it back and didn't hold up your end of the bargain." But that statement is ignorant because it fails to recognize who was truly at fault for the loss of our home's value.It was the mortgage banks who created the housing crisis in the first place. Had they not tanked the housing market, we would have easily been able to pay back every cent of the remaining $65k balance. Yes, many homeowners acted in bad faith at that time by purposely maxxing out their home equity lines then walking from their homes.
But we were the ideal lendees. We not only paid our mortgage faithfully, but prepaid half of it off 10 years into a 30 year mortgage. It was the banks that were responsible for the fact that our house $130k house was worth less than $65k. Their expiring ARMs had left too many homeowners unable to refinance their homes, leading to home abandonment, leading to prices dropping further. It was a vicious cycle caused by Bank of America, and now Bank of America had the gall to ding our credit score by reporting our home's short sale as a foreclosure to the credit agencies.
They shot my horse
Our situation was akin to an old west family going to the bank to borrow $100 to buy a horse. After purchasing the horse and taking it home, the bank manager shows up at my house, pulls out his gun, and shoots the horse dead. Even though a dead horse only brings $20 from the glue and leather makers, incredibly the bank still wants their full $100 paid back. WHEN THEY SHOT THE HORSE!This is exactly what Bank of America did to us. Their actions took our hard-earned $65k of prepaid equity in our house and flushed it down the toilet.
Sorry for the rant. It's still an injustice that I feel. We had spent hundreds of hours and thousands of dollars renovating that little house. All wasted. I want those years of my life back.
But we moved on, and more than made up that lost $65k by buying a foreclosed former builder's home for half price. A mansion, really. It had 4 floors (3 above-ground plus a full basement) totaling 6400 sq ft of livable space, 3 gigantic bedrooms, 3 full baths plus 2 half baths (we added another 3/4 bath in the basement), and no neighbors on one side or behind. It needed some rehab, but we were now experienced in that.
Fast forward to 2017
The federal government allows civilian employees to retire early at any age after 25 years of service if Voluntary Early Retirement Authority (VERA) is granted. Also, the agency must provide the accounting to prove that elimination of the early retiree's position saved another position in the organization from being eliminated. Essentially you get to retire early in order to save someone else's job. What an altruistic thing to do.In late 2017, I was a decade younger than the minimum retirement age, but had my 25 years in. If I retired early, the federal government would pay me 1/4 of my salary as an annuity to not work. In my mind this meant that I was now only earning 3/4 of my current salary (the difference) to continue the daily grind. Talk about loss of motivation. Oh, and I was an engineer in a developmental position as an "acting" low-level project manager. Translation: Perform at a much higher level with lots more responsibility on your shoulders without a raise. I had accepted the position because I was super bored and needed an intellectual challenge. And I honestly liked the variety and unpredictability that the position brought every day. But it was stressful.
My job was not my passion
There were many days I hated it. Why was I dodging Michigan potholes in heavy traffic 90 minutes a day surrounded by inconsiderate drivers, sitting all day in a windowless room, and getting off work as the sun was purportedly* setting, just to pay for our second car which I primarily used to drive to work? This was crazy!* (During winters in the Detroit area, one has to imagine the sun setting. The constant cloud cover and barren trees and dead grass all conspire to trap you in a living black and white movie. There are roughly 18.68233 days where glimpses of the sun may be seen during the 8 month winter that lasts October through Memorial Day.)
I realized my most valuable commodity in life was time.Friends my age were dying of cancer. A boss of mine had died in the harness. A former division manager had died less than 5 years after he retired.
If I remained in that job, I was going to die by attrition.
I started calculating
How little could we live on? How much would we really need? I calculated the savings of downsizing to one car. I factored in the elimination of social security and medicare taxes (over 7%!) levied on earned income. I factored in stopping my contributions to the Thrift Savings Plan (the 401k equivalent for federal employees). I figured out how much we would save on income tax due to a lower income. I was delighted to find that we could live on less than 60% of our current income.So I would get 1/4 of my salary as an annuity. I could double that by rolling over my TSP balance to an IRA and taking early distributions as a Substantially Equal Payment Plan (SEPP).
I calculated in the compounding yearly inflation of expenses. I just needed to make it to age 57. At that time, I would receive an annuity supplement which would tide me over until I could collect social security, which is the 3rd component of a federal employee's retirement plan.** I just needed an extra grand a month long term. If we downsized and sold the former builder's mansion, that equity would give us the extra "emergency fund" we needed to make it work. Instead of using the money to buy a smaller house outright, we decided we would invest the money to make it grow. This meant we would rent a house for the foreseeable future. I did the math. It would take a decade before the costs of renting a home would exceed the opportunity costs of buying a home outright with cash. We could make so much more investing that money, and plus we would have the source for that extra $10 to $15k we needed each year to make our plan work.
** (Translation: Social Security is never going away, folks. It has been promised as a component of the retirement package of every federal employee hired after 1987. All 3.4 million of us.)
I was ready. All I needed was for the Army agency I worked for to offer VERA. They did. I pounced like a cat on a mouse. And I never looked back.
So here's how budgeting changed in retirement
While employed, I was budgeting income based on a zero-based budget. Basically, the idea is to give a home to every dollar of your paycheck. You limit some categories (like eating out) so that you can increase others (like savings). We had budgeted this way for over a decade, and were really good at it, though we were rarely obeyed the budget completely. We were flexible, and the system worked overall. We were able to track our spending and plan upcoming spending. We lived within our means, which is the ultimate goal of a budget.
When I retired, I continued to budget in the same way. I took the monthly income from my annuity and SEPP payment, and added an additional amount from our savings. We would take this same amount each month and parcel it out until it was fully allocated to budget categories. But I began to notice something...
But if we could spend less than average in the current month, our reservoir budget category balance would draw down more slowly, lasting longer before I would have to replenish it from my brokerage account. I could keep more money in the brokerage account for longer.
Meanwhile, the brokerage account keeps growing. And I am enjoying my budget.
When I retired, I continued to budget in the same way. I took the monthly income from my annuity and SEPP payment, and added an additional amount from our savings. We would take this same amount each month and parcel it out until it was fully allocated to budget categories. But I began to notice something...
Something wasn't quite right with how I had been budgeting
My method of budgeting had been based on TRYING to spend (allocate) a specified amount of money each month. But over time I realized this was no longer our goal...The goal of the early retiree is not to spend money, but to save it and make it last.So a budgeting methodology that tries to spend every dollar of that month's income no longer made sense.
I was no longer in income-generation mode. I was in savings-consumption mode.
This led to a change in my budgeting approach
I was used to letting unspent money in a budget category roll over from month to month, accumulating in category balances that could be drawn from in the following months. For example, supposing I had budgeted $60 each month on doctor visits but only spent $12 in the current month, then $48 would carry over to the next month. After all, the budget categories were averages. While employed, I needed to keep that $48 in the doctor category because I might need $100 next month to cover some extra bloodwork.But now I was working with savings
With savings, my goal was not to spend the money, but to make it last. I put $10k into my checking account and allocated it to an "Income/Emergency Fund" budget category. I would use this budget category to "fund" any deficit in each month's budget, by moving money from this category into that month's income.This was my reservoir. My float.
I wanted that reservoir to last as long as possible
So I stopped rolling over category balances at the end of the month. At the end of each month I began to zero out each category, returning the unused balance of each budget category to the reservoir. The only category balances I continued to roll over from one month to the next were those for categories whose bills came infrequently such as auto insurance. That, and the reservoir itself. I would carry over its balance, gradually drawing it down. But all other budget categories were adjusted to equal what we actually spent, resulting in a zero balance at the end of the month.In essence, our budget was simply whatever we spent that month.Wait, but isn't that essentially a non-budget? What's the point of budgeting if, at the end of the month, we simply adjust that month's budget to equal what we spent?
But if we could spend less than average in the current month, our reservoir budget category balance would draw down more slowly, lasting longer before I would have to replenish it from my brokerage account. I could keep more money in the brokerage account for longer.
Suddenly I realized I had found the impetus for saving while retired. It was like a game.The game was to see how long I could make the reservoir last until it needed to be refilled. How little could I spend each month? And if we needed to make a big purchase (like moving expenses when the owners of our rental home decided to sell the house)? No big deal. The money is there in the brokerage account just for that purpose. No sweat. No anxiety. Just transfer over the money needed, and move on.
Meanwhile, the brokerage account keeps growing. And I am enjoying my budget.
